Reforms Needed to Boost Recovery Rates of Insolvency and Bankruptcy framework

Syllabus: GS3/ Economy

Context

• The Parliament’s Standing Committee on Finance, has flagged concerns and the need to rethink the Insolvency and Bankruptcy Code (IBC) 2016 design.

Insolvency and Bankruptcy Code (IBC) 2016

• IBC was introduced in 2016 to address rising Non Performing Assets and ineffective debt recovery mechanisms in India.
• It aims to overhaul the corporate distress resolution system, replacing debtor-controlled regimes with creditor-in-control mechanisms for time-bound resolutions.
• According to the Insolvency and Bankruptcy Board of India (IBBI) objectives of the IBC resolution are;
  • Business Revival: To save businesses through restructuring, changes in ownership, or mergers,
  • Maximization of Asset Value: To preserve and maximize the value of the debtor’s assets,
  • Promoting Entrepreneurship and Credit: To encourage entrepreneurship, improve credit availability, and balance the interests of stakeholders, including creditors and debtors.

How has IBC helped improve resolutions?

• As of March 2024, the gross NPA (GNPA) ratio of banks stood at Rs 4.8 trillion, or 2.80% of the loans outstanding, at a historical low.
• The share of the number of cases resolved through the resolution plan rose to 38% in FY 2024 from 17% in FY 2018.
• Since the introduction of IBC, India has improved its Ease of Doing Business ranking (basis World Bank report 2020), particularly in ‘Resolving Insolvency’, from 136 in 2016 to 52 in 2020.

What are the Concerns?

• Procedural Delays: The average resolution time at the National Company Law Tribunal (NCLT) increased to 716 days in FY24. Longer delays correlate with lower recovery rates.
• Steep Haircuts: Cases resolved within 330 days had a 49.2% recovery rate, but this dropped to 26.1% for cases taking over 600 days. These haircuts (reduced recoveries) are a major concern for creditors.
• Legal Issues: The Supreme Court in 2022, ruled that the NCLT’s 14-day period for admitting cases is not mandatory. This gives the NCLT discretionary powers, slowing down case admissions. 
• Human Resource Crunch: The NCLT is facing a shortage of personnel. With over 20,000 cases pending annually, the lack of adequate staffing is crippling the system.
• The absence of a clear framework for cross-border insolvency and the unique challenges faced by sectors like real estate, power, and infrastructure further complicate insolvency resolutions under the IBC. 
• Countries like the UK, US, and Singapore resolve insolvency cases within a year, while India’s IBC cases average over 600 days, highlighting the need for reforms.

Way ahead

• To overcome the challenges within the Insolvency and Bankruptcy Code (IBC), several reforms have been proposed:
  • Integrated Technology Platform: Ensuring transparency, consistency, and efficiency in the resolution process.
  • Reforms in NCLT: Expanding from the current 15 benches, appointing more members, and introducing new tribunals under the Companies Act, 2013.
  • Pre-Packaged Insolvency for MSMEs: To expedite resolution for smaller businesses.
  • Out-of-Court Settlements: Encouraging settlements to reduce haircuts and court proceedings.
• By addressing challenges such as process delays, overburdened courts, and creditor reluctance towards haircuts, India can bridge the gap with mature frameworks such as those in the advanced economies.

Source: IE